Wednesday, February 10, 2016

Playing In A Hurricane

Central banks are either flirting with or have already instituted negative interest rates in order to force commercial banks to lend. This isn't going very well and both the Japanese stock market and European bank stocks have been getting slammed. It's no joke.

But there is more to the sector slump than just the individual bank problems, according to Garnry. The negative interest rates set by the ECB means that banks effectively have to pay to have cash on their balance sheets, while at the same time getting squeezed on their net interest margins. Debt levels are already really high on the continent, which means further loan growth is expected to be low, he said.

Think about what negative rates mean. If banks aren't lending, it's because they don't see sufficient rewards for risking their money. Banks make money by lending, so they're already predisposed to make all the loans that seem reasonable. Money kept on the sidelines by the banks is really being kept out of the hands of dangerous, risky business ventures.

In comes the central banks, punishing them for not lending to poor risks by charging them for keeping cash reserves. It's like the central banks are shouting, "Go out and play with the other children! It's a beautiful day, much too nice to stay inside." The commercial banks look outside and see this.